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Limited asset market participation and the consumption-real exchange rate anomaly

  • Robert Kollmann

Under efficient consumption risk sharing, as assumed in standard international business cycle models, a country's aggregate consumption rises relative to foreign consumption, when the country's real exchange rate depreciates. Yet empirically, relative consumption and the real exchange rate are essentially uncorrelated. This paper shows that this `consumption-real exchange rate anomaly' can be explained by a simple model in which a subset of households trade in complete financial markets, while the remaining households lead hand-to-mouth (HTM) lives. HTM behaviour also generates greater volatility of the real exchange rate and of net exports, which likewise brings the model closer to the data.

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Article provided by Canadian Economics Association in its journal Canadian Journal of Economics.

Volume (Year): 45 (2012)
Issue (Month): 2 (May)
Pages: 566-584

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Handle: RePEc:cje:issued:v:45:y:2012:i:2:p:566-584
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  7. Maurice Obstfeld & Kenneth Rogoff & Ben Bernanke & Kenneth Rogoff, . "The Six Major Puzzles in International Macroeconomics: Is there a Common Cause?," Working Paper 32326, Harvard University OpenScholar.
  8. Jordi Galí & J. David López-Salido & Javier Vallés, 2007. "Understanding the Effects of Government Spending on Consumption," Journal of the European Economic Association, MIT Press, vol. 5(1), pages 227-270, 03.
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  11. Robert Kollmann, 2004. "Welfare effects of a monetary union: the role of trade openness," ULB Institutional Repository 2013/7626, ULB -- Universite Libre de Bruxelles.
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  17. Kollmann, Robert, 1995. "Consumption, real exchange rates and the structure of international asset markets," Journal of International Money and Finance, Elsevier, vol. 14(2), pages 191-211, April.
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